UNIT 2 – THE ALLOCATION OF RESOURCES

2.2 – THE ROLE OF MARKETS IN ALLOCATING RESOURCES

Market Equilibrium and Disequilibrium
The term equilibrium refers to a state where there is no tendency to change. In this case, the
demand for products is equal to the supply of products at a given time.
The term disequilibrium refers to a state where there is a tendency to change. In this state of
change, the demand for products is not equal to the supply of products at a given time.
Changes in market forces will lead to a rise or fall in the price of products.
Economic systems
An economic system organises the economic activities of a region. Its purpose is to handle
the problem of scarcity.
Market economic system
A market economy is sometimes called a capitalist economy, a free-market economy or a free
enterprise economy because the decision making is motivated by what happens in markets. In
other words, the market price of an item determines who will get it. Those who can afford to
buy a resource will do so; those who can’t, won’t. In a pure market system, an official
economic decision maker is unnecessary.
Planned economic system
A planned economy is sometimes called a command economy, because decisions are made
by a central authority that works to fulfil an economic “plan.” The interest of “the plan”
precedes the private interests of the people. A central authority makes decisions about what to
produce, how to produce, and how to allocate the benefits of production. Both the allocation
of resources and the distribution of goods and services are determined by a central authority,
acting to fulfill “the plan.” In a typical planned system, all resources, goods and services are
owned by everyone (i.e., by the government) and controlled by a central authority. In
communism, the central authority tends to be totalitarian; in socialism, the central authority
may be a freely elected government or its representatives.
Mixed economic system
In the real world, there are no pure economic systems. The systems you’ve just read about are
only theoretical models. Rigid command systems sometimes deviate from their plans in order
to uphold traditions, or for practical reasons. “Free market” systems are regulated to varying
degrees by governments.
The U.S. system is called a mixed market system. It resembles a market system, but
decision-making doesn’t all happen in markets. Most goods are privately owned, but some
are publicly owned. Goods and services are generally allocated by the price system, but most
markets are regulated so the economic environment is not as harsh as in a pure market
system. Also, rights to intellectual property are protected, so new ideas have a chance to be
profitable. Individuals and firms aim to earn profit, but through taxation, their income is
partially redistributed.
Price Mechanism
Price mechanism is a system of economic organisation in which each individual in his
capacity as a consumer, producer and resources owner are engaged in economic activity with
a large measure of freedom. It is a mutual exchange and coordination which guides and
organises economic activity, efficiency and further leads to an efficient allocation of
resources. The working of price mechanism in any type of economy – whether market
economy, planned or mixed economy – its working is related to the following issues:
● What and how much to produce
● How to produce
● To determine income distribution
● To utilise the resources
● To provide an incentive to growth